Why it is time to seriously focus on asset allocation?

Asset allocation begins with goals. Based on medium term and long term goals, you work out the mix of equity and debt.

Apr 28, 2020 10:04 IST India Infoline News Service

Ask any mutual fund investor and they will tell you that there is no point in looking at equity fund returns over the last 1 year or even 3 years as the returns are likely to be negative. They may have a point because the correction in the markets post COVID-19 has wiped out a number of quarters of equity market gains. One way out is to look at a much longer 10 year perspective of returns. What eventually emerges from this analysis is that the primary focus should be on asset allocation, above all else.

How equity funds performed over 10 years?

Here are some specific sub-categories of equity funds with the top-3 performers in each category. All data is as on April 26, 2020. SIPs are assumed on 25th of every month.
Fund Name Lump sum 10-Year CAGR (%) SIP 10-Year CAGR (%)
Equity Funds – Large Cap
Mirae Asset Large Cap 10.90% 10.05%
ICICI Prudential Blue Chip 9.91% 7.07%
Axis Blue Chip Fund 9.87% 10.41%
Equity Funds – Multi-Cap
INVESCO India Multi-Cap Fund 11.93% 9.81%
Kotak Standard Multi-Cap Fund 10.33% 9.45%
IDFC Multi-Cap Fund 10.12% 7.71%
Equity Funds – Mid-Cap Funds
INVESCO India Mid Cap Fund 12.28% 10.18%
HDFC Mid Cap Opportunities Fund 11.99% 9.47%
Edelweiss Mid Cap Fund 11.93% 10.65%
Equity Funds – Sectoral / Thematic Funds
ICICI Prudential FMCG Fund 15.11% 11.15%
Birla Sun Life MNC Fund 14.02% 12.14%
Nippon India Pharma Fund 14.00% 13.53%
Equity Funds – ELSS Funds
Axis Long Term Equity Fund 13.87% 12.73%
INVESCO India Tax Plan 10.55% 9.60%
BNP Paribas Long Term Tax Plan 9.89% 8.73%
Data Source: Morningstar / AMFI

Four things emerge from the 10-year return analysis of different categories of equity funds. Firstly, diversified and multi-cap funds have given returns that are above inflation but it is just about in double digits over a 10 year period. Secondly, sectoral funds have outperformed but it would have boiled down to being in the right sectoral fund at the right time. For example, an infrastructure fund would have inflicted huge losses on your portfolio. Thirdly, despite the supposed benefits of the 3-year lock-in and flow stability, there is no advantage visible in ELSS funds other than the tax benefit. Hence it would be best to restrict ELSS funds only to the extent of Section 80C limits and use large cap or multi cap funds beyond that. Lastly, SIPs on equity funds remain a veritable option because you get to sync inflows and outflows and don’t bother about getting your fund entry timing right.

How Debt funds performed over 10 years?

Here are some specific sub-categories of debt funds with the top-3 performers in each category. All data is as on April 26, 2020. SIPs are assumed on 25th of every month.
Fund Name Lump sum 10-Year CAGR (%) SIP 10-Year CAGR (%)
Debt  Funds – Gilt Funds
IDFC Government Securities Fund 9.91% 10.18%
SBI Magnum Gilt Fund 9.65% 10.30%
Birla Sun Life G-Sec Fund 9.64% 10.16%
Debt Funds – Credit Risk Funds
SBI Credit Risk Fund 8.48% 8.10%
L&T Credit Risk Fund 7.41% 6.63%
Principal Credit Risk Fund 7.13% 6.42%
Debt Funds – Liquid Funds
Quant Liquid Fund 8.43% 7.93%
Franklin India Liquid Fund 8.07% 7.07%
Baroda Liquid Fund 7.99% 7.69%
Data Source: Morningstar / AMFI

One caveat to begin with is that the SIP logic can be applied to equity funds and to debt funds too. In case of debt funds, the gap between lump sum returns and SIP returns may not be too much but SIPs are a lot more convenient and pragmatic. There are two things that emerge from this analysis of debt fund returns over 10 years. Firstly, over a longer time frame, the credit risk funds do not appear to add much value. It could only get worse, post the Templeton issue. Secondly, over the last 10 year, absolute returns on gilt funds and liquid funds have been at par with equity funds or just marginally lower. That makes a strong case for shifting focusing to asset allocation as the ideal strategy.

Why focus on asset allocation?

Asset allocation begins with goals. Based on medium term and long term goals, you work out the mix of equity and debt. Once the mix is determined, stick to that debt/equity mix till there is a genuine trigger to shift the mix like age, income, liabilities etc. Based on the mix, asset allocation dictates that you monitor and rebalance only if the deviation is above 500 bps. The idea is to use such deviations to rewind your asset allocation back to the benchmark. Clearly, both equity and debt have given a good performance over the last 10 years and plain asset allocation can get you the best risk adjusted returns. Focus your investment approach on SIPs. They are simpler, easier and the rupee cost averaging gives you more bang for the buck. It also gels seamlessly into your asset allocation. That should be the focus; and that is likely to work irrespective of the vagaries of the equity and bond markets.

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